The Arbitration Game

In the New Normal economy, the rules of labor arbitration must change.

Girard Miller is the Public Money columnist for GOVERNING and a senior strategist at the PFM Group.

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When I speak with public managers about pension reform, municipal cost-cutting and compensation-plan inequities, the first topic they raise is their problem with the public-sector labor arbitration scheme. I use the word "scheme" advisedly, because it's just that. The rules of the arbitration game have been rigged for years to favor a non-market approach to resolving labor disputes — at the expense of taxpayers.

The problem with public sector unions is that their strikes jeopardize society in ways that private company workers' cannot. Governments run monopolies, so citizens can't take their business to a competitor. It's one thing to interrupt a newspaper when the Teamsters go on strike, or when the UFCW pickets a grocery store, but it's quite another to stop policing the streets or fighting fires and putting civilian taxpayers at risk. So our society has often decided that labor arbitration is the fair way for many public employers to resolve labor disputes.

Let's not argue here over whether public employees should be organized in the first place. Nobody is going to change their opinion on that issue on the basis of anything I will ever write in this column, so it's silly to scratch that scab. I personally am agnostic on the issue. I'd have no issues with public sector unions if they would stay out of the election process and just do their jobs in the workplace. But as more public employers are driven to the brink of bankruptcy (see my companion column on Chapter 9) to obtain compensation reforms while government unions exert undue influence through self-serving campaign contributions that private-sector money managers are now prohibited from making, we clearly need to revisit the ground rules for labor arbitration.

In most states with public employee labor arbitration laws, the general practice is to compare salaries, benefits and other compensation of the represented employees with those of "comparable positions" with "comparable employers." This almost always limits the focus to the same job titles in the public sector without any reference to non-governmental labor markets from which employers draw their recruits — or where the workers could find alternative competing employment at similar skill levels. That immediately rigs the game in favor of organized labor, because the unions can then game one public employer against another. Once one union extracts a new benefit, they pressure others to follow, and then the holdout employers are forced into binding arbitration, which they inevitably lose under these ground rules.

If you look back at how California got itself into its current pension mess, a lot of it came from the "me-too" bargaining strategies of public safety unions that worked their way up into irrevocable pension formulas, granting them lifetime income at 3 percent of salary times years of service once they reach age 50. "Three-at-50" became the pension standard once the state awarded that formula to corrections officers in the late 1990s. Once other public employers had bought in, it became a hopeless cause if employers tried to argue against it in arbitration. It's the domino effect.

Nevermind that there are few if any private employers anywhere in the country that offer pensions with a 3-at-50 benefit. Yet these lavish pension formulas are almost impossible to unwind in an arbitration process now, even in light of a New Normal economy with 9.5 percent civilian unemployment rates. They certainly have gone the way of the Dodo Bird in the private sector.

Vacant positions for public safety personnel today attract dozens if not hundreds of job applicants for every open slot. Salaries and benefits for those positions are clearly sufficient in today's labor market. In fact, pay ranges for new hires could be reduced in most markets today and there would still be an ample pool of fully qualified recruits. Talk to any college graduate with a law enforcement degree these days.

As I testified before the California legislative commission's hearings on pension reform two months ago, one of the side effects of irrevocable pension benefits and underfunded retirement plans is that we won't be able to hire new recruits for much of this decade. So the compensation system is clearly dysfunctional here. We have massive labor supply and no demand, yet public employee compensation and benefits remain "sticky downward" as the great economist John Maynard Keynes observed.

What we need in the state statutes is a requirement for the arbitrators to give equal weight to retirement benefits levels and compensation in the private sector for recruits with equal qualifications. I don't expect to pay trained police officers the same as the security guard at a shopping center, but I do want their pay and their pensions to be commensurate with the alternatives that such employees could earn in the private sector of the economy as well. The same applies to firefighters, whose compensation including overtime usually outstrips any comparable blue-collar workers in their local economies.

Public transit employees often have the same scenario. In some states, the labor laws require an arbitrator to compare the transit employees' pay with those of workers in other states with higher costs of living, without any countervailing reference to what local private-sector employees earn.

Whether by statutory neglect or by practice, the private sector job market is too often ignored by arbitrators. Public employers need a level playing field that takes into account the local labor market opportunities of those seeking a non-market valuation of their economic contributions to society. Arbitrators must take a holistic view and not hide behind narrowly defined position titles.

This doesn't mean that firefighters should be paid the same as residential construction workers whose lives are not at risk, or that subway drivers with lives on board should be paid the same as the UPS delivery guy/gal. I'm happy to see fair compensation for the skills and risks in each situation. But let's not cherry-pick the protected pay classes of narrowly defined job titles. Let's require the arbitrators to look at the entire picture and not overweight job specializations that can easily be fulfilled by scores of other workers with a reasonable training period.

Unions should be allowed to present their comparables in today's format as part of the process. But employers deserve an opportunity to show the arbitrator, with equal weighting in the deliberations, that there is a real-world private-sector labor market out there with economics that don't align with the self-serving bubble that the current system has created. Public employers should also be allowed to present in evidence the features of the federal retirement system that applies to Homeland Security officers and other comparable public safety and public service positions, which is often far less generous than many state and municipal plans.

Something has to change in the states' arbitration laws, or we will find ourselves becoming more and more like Greece and other European states that have dug themselves into inescapable financial holes. Arbitration reform alone will not solve the problems we face now, of course. Comprehensive solutions are needed. And that includes a change in the rules of labor arbitration. My testimony in California offers legislative language to consider. Let's level the playing field, or else we will soon have few alternatives to bankruptcy.